Marriott International, Inc. (MAR) Q3 2013 Earnings Report, Transcript and Summary

Good morning, and welcome to Starwood Hotels & Resorts Third Quarter 2013 Earnings Conference Call. [Operator Instructions] I will now turn the call over to Mr. Stephen Pettibone, Vice President of Investor Relations. Sir, you may begin.

Thank you, Sylvia, and thanks to all of you for dialing in to Starwood's Third Quarter 2013 Earnings Call. Joining me today are Frits van Paasschen, our CEO and President; and Vasant Prabhu, our Vice Chairman and CFO. Before we begin, I'd like to remind you that our discussions during this conference will include forward-looking statements. Actual results could differ materially from those indicated in the forward-looking statements, and forward-looking statements made today are effective only as of today. We undertake no obligation to publicly update or revise these statements. The factors that could cause actual results to differ are discussed in Starwood's annual report on Form 10-K and in our other SEC filings. You can find a reconciliation of the non-GAAP financial measures discussed in today's call on our website at www.starwoodhotels.com. With that, I'm pleased to turn the call over to Frits for his comments.

Thanks, Stephen, and thank you, all, for joining us today. In my prepared remarks, I'm going to focus on 2 topics: First, a brief recap of our Q3 results and how they were influenced by the business environment around the world. Second, a look at the unique aspects of Starwood as an investment proposition as we presented 6 months ago in Dubai. Following our usual format, after I conclude, Vasant will go into more detail in what we're seeing as we enter the fourth quarter and our outlook for the rest of the year. I'll turn now to my first topic, our Q3 performance. It's safe to say that the world economy was not on altogether solid ground. Indeed, if you wanted to look at headlines around the world for things to worry about, there'd be plenty to choose from: The slowdown in China, the weakening rupee in India, upheavals in the Middle East, a Brazilian economy that's lost its zip, not to mention the circus that's Washington, D.C. In the face of all of this, we posted very strong results, with REVPAR up globally nearly 5%, and core management and franchise fees up almost 10%. More importantly, we hold firm to our view of the long-term trend lines of rising wealth and increasing global demand for travel. Those trend lines lie behind the lodging recovery which has been moving forward for some time now, despite the fits and starts. Looking at the mature markets, there's still a lack of new supply even in the face of steady demand growth. The result is as you would expect, another quarter of record occupancies in both the U.S. and in Canada. Company-Operated REVPAR grew by 7%, driven mostly by higher rates. Trends in corporate and leisure demand have continued to grow at…

Thank you, Frits, and good morning everyone. We are pleased to have exceeded profit expectations once again despite revenues coming in at the low end of our outlook range. Strong results in North America and Asia x China offset weaker trends in other regions, demonstrating once again the advantages of a well-diversified global business. Despite the exchange rate headwinds, our core fee business grew almost 10%, powered by healthy growth from new hotels that have entered our system in the past few years, especially in Asia. Our owned hotels in North America drove 230 basis points of margin improvement, with robust REVPAR growth of 8.5%. With good cost control, our international owned hotels squeezed 120 basis points -- 110 basis points of margin improvement from only 2.9% REVPAR growth due to the challenges in Latin America and Europe. We had a net benefit of around $5 million from some termination fees recorded in other income, which were offset by some nonrecurring expenses in SG&A. Adjusted for these nonrecurring expenses, SG&A growth remains well under control at 2% to 3%. Our vacation ownership business continues to be a steady performer. Bal Harbour condos are now 97% sold, generating $1.1 billion in revenues and $268 million in profits to date. We have bought over $250 million in stock since we last talked to you and will soon pay you an annual cash dividend of $1.35 per share. So those are some of the highlights of the third quarter. Over the next few minutes, we will do our usual trip around the globe to review current business trends, briefly touch upon our 2014 outlook, and finish with some comments on our capital allocation plans. We have said for some time that this up cycle is unlike any we have seen before due to…

Thank you, Vasant. We'd now like to open up the call to your questions. [Operator Instructions] Sylvia, can we have the first question, please.

Your first question comes from Joe Greff from JPMorgan. Joseph Greff - JP Morgan Chase & Co, Research Division: On the topic of assets sales, first, to Vasant, do you have more assets on the market are being brokered now versus 6 months ago? And then of the 2 asset sales that you expect to close in the fourth Q, I know you don't want to give details on it, I get that. But I'm hoping you can maybe just talk about the buyer profile broadly and maybe the asset profile? And then just to clarify, the first 9 months of this year, these 2 assets, how much EBITDA did they generate that we should take out of the base for next year?

Yes. I'll comment on the general question first, and then I'll hand it to Vasant, although I don't think we want to get into a guessing game about which property by revealing details prematurely. Your question started with, do we have more asset sales on the market than 6 months ago? I would characterize my answer to that in a slightly different way, which is to say, we're putting more effort and seeing more interest in our assets than 6 months ago, and working hard to accelerate the sale process. But as you might imagine, each of our properties is distinct and, typically, also with different buyers. And so, part of what I'm saying is, we haven't yet found a market where a large portfolio of assets can go to the market, but we continue to know which kinds of buyers are interested in which kinds of properties. So with that, let me hand to Vasant and see if he -- Vasant, you want to add some color to the rest of Joe's question?

Joe, you had several elements to the question. In terms of the impact of the asset sales, we gave you a number, it's approximately $12 million, if you include the 2 additional hotels we'll close on fairly soon. So the year-over-year reduction in EBITDA is approximately $12 million from asset sales that -- where purchase and sale agreements are signed and the 2 that will close soon. The reason we don't -- can't tell you more, as you know, is when we do these purchase and sale agreements, they, typically, are confidential. Sometimes, they're even with other public companies, and therefore, we can't give you details ahead of when they are also ready to announce. You also asked who the buyers are. The buyer pool remains essentially the same. Outside the U.S., it's what you might call sovereigns or ultrahigh-net worth families or individuals. They are mostly looking for the trophy-type of hotels and they're only looking for 1s and 2s at a time, as Frits said. In the U.S., it's still very much either public or private REITs, and certainly more the public REITs than the private REITs. So the buyer pool remains what we've described earlier. And as Frits said, in terms of sort of -- we always have quite a few hotels on the market. The only thing I would say that maybe a little bit different now than earlier in the year is, we do have some larger hotels on the market in terms of value, but we'll see. We'll see how it goes and we'll announce them as they're done.

Your next question comes from Joshua Attie from Citi.

So Starwood began its asset light strategy in 2003, and the company's moved from 20% fees to 60%, but it's taken a really long time. And earlier this year, you set a target of $3 billion of sales over a 3-year period, and it seems like you're tracking behind that number. And it also sounds like what you have left is very high-quality, geographically diverse, well-maintained from a capital perspective, something that would make a really good public company. So my question is, what's your appetite for exploring a spinoff of your real estate, I guess, in order to accelerate the asset light transition and make sure you don't miss the cycle, and also to allow you to focus exclusively on the fee side of the business?

Yes, so Josh, this is Frits. I'll deal with some of your question and then see if Vasant, again, wants to add. To your first point, the asset-light strategy, as you described, was first talked about at Starwood in 2003, that predates my tenure, but I believe that we were already quite active, certainly, with the Host transaction prior to my coming. As you know, between 2003 and today, a few things happened on the way to the bank, which relate to the world financial crisis, and that certainly put a hiatus on asset sales. And in fact, today, we still see a market where fewer assets are trading than in the end of the last cycle. In terms of the $3 billion, I suppose if you prorated the 6 months since we said that, over the 3.5 years that we talked about, we would be behind, but it's a bit premature to call that a really lagging issue. As we've said for some time now, selling hotels is a lumpy business. And in order to reach our goal, we do believe that we have to get to a point where we can sell multiple hotels, and that market has not yet returned. We said in Dubai that we expected over the time period that, that demand would continue to grow. As it relates to a REIT spinoff, obviously, we continue to look at different options for moving ourselves to asset light. In the past, as we've looked at REIT spinoffs, it hasn't been attractive in aggregate compared to some of the target sales that we've done. That said, the future may be different from the past and it continues to be an option that we would look at. Vasant, do you want to add anything?

Yes. I might just add a couple of things. As you all know, there's a life cycle to the value of real estate and hotel real estate, and you wouldn't want us to be sellers at the bottom of the cycle. So we are value-driven in how and when we sell, because once we sell, it's -- the value that you get is all locked in. We did -- we don't consider ourselves experts on market timing, but we were able to sell $7 million in the last cycle before it hit its peak at good values. We are very active, but you also -- it's also paced by the availability of buyers and also another element that we have paid a lot of attention to, that you're aware of, is tax planning in selling hotels. And sometimes, that can also dictate the time. In terms of the REIT, we have never ruled out that, the idea of doing a REIT. We've always told you that if we can get a value that is greater than we would get in a REIT float, which is how we looked at the Host transaction, we would do that. The advantages of doing it without a REIT are -- when you do a REIT, you may get a discount to existing REITs and you also have some G&A. But we would never rule out a REIT float if it makes sense.

Your next question comes from Whitney Stevenson from JMP Securities.

I'm wondering if -- with respect to the management fees, if you could walk us through. It looks like the base fees were about 68% this quarter with incentive fees making up the 32%. And if you could sort of walk me through from trough to peak, how that mix skews?

I'm not sure we could give you specific trough to peak. What I can tell you is that, our fees are more stable on the incentive fee side for a simple reason: 90% of our fees come from outside the U.S., 10% from the U.S. Non-U.S. incentive fees don't have preferred returns, so they're less susceptible to cycle, and therefore, we don't see -- I don't think you would see with us the same kind of swing in incentive fees in an up cycle and the swing down in a down cycle. So I would say, if we went back and looked at it, the percentages wouldn't change that much. In terms of where we are today in terms of how many hotels are paying incentive fees, across the world, about 2/3 of our hotels are paying incentive fees today, 80%-or-so outside the U.S. are paying incentive fees and it's more like 1/3 in the U.S. So that's probably the -- sort of the best answer we can give you right now.

Your next question comes from Smedes Rose from Evercore.

I was just curious as to if you could talk a little bit about your policy around the dividend. I think there was an expectation that you would increase it, but I think it seemed maybe a little light relative to some thoughts and the relative -- the amount of cash that you'll be generating. Why did you come up with $1.35 versus higher or lower? Kind of maybe you could just help us think about that?

Yes. From our standpoint, we view the dividend as a long-term commitment. It's a dividend we want to be sustainable. We want to have a dividend that can have steady growth. We are in a cyclical business. We have to be mindful of that. We think that at the levels it's at, you still have that 1.9% to 2% yield. We always have the option of returning additional cash to you in the form of buybacks, as we've done. So the dividend is something we would like you all to think off as something you can count on, that will be delivered now quarterly and will have increases year-over-year and is sustainable through the cycle.

And in terms of dividend payout, is within the range that we've been talking about now for some time.

Your next question comes from Shaun Kelley from Bank of America.

Maybe just stick on the same topic as it relates to capital returns. The share buyback commentary we got from investors this morning was quite good in terms of being pleased with the levels. But could you just talk about, is there any sense that you guys are moving towards a more programmatic buyback versus the historical strategy, which I think, as you've outlined, has been a little bit more opportunistic? Or just kind of how you're approaching the program right now, that'd be helpful.

I would say that our philosophy and approach has changed less than our view of the world and the position of the company and our ability to buy back. So we haven't changed our view, but I do think that circumstances have changed, which have led us to continue the program, even with the stock at the higher prices it's trading at today.

The next question comes from Steven Kent from Goldman Sachs.

Frits, you mentioned, I think, during the call that you were a de-risked balance sheet. What is your view on the ideal net-debt-to-EBITDA target, especially given some of the questions you fielded earlier on share buyback and dividend?

Steven, we prefer to think of it in terms of making sure that we're comfortably into investment grade, and we've been saying that for some time now. And it depends a bit on who you ask and whose EBITDA or net debt you're looking at to the precise ratio that, that leads to. But we want to continue to have a balance sheet that is, as you put it and I did earlier as well, as de-risked as it is, again, not because we think the world today and our business is terribly risky, but we don't know what's around the corner. What we do know is that in the past, markets have certainly responded robustly to any bad news, and that includes to our own stock. And we can't rule out the notion that with 2 crises in the last decade or so, that there may be something else out there. And that with a balance sheet, the way we have it today, we have much more flexibility either to return cash to shareholders in a more meaningful way given a shift in the market, or to do something else with that cash that would be in the longer term interest of the company.

Yes, I think Steve, there's no change at all in our views on what are appropriate ratios. It's BBB, and it's the ratios that go with it. And clearly, we have plenty of room to do things that Frits mentioned, whether it is to return cash to shareholders or deploy our capital if we can see high rates of return. So there is absolutely no change in terms of the views we expressed before as to the ratios we're targeting.

Your next question comes from Thomas Allen from Morgan Stanley.

You made some comments earlier about seeing only a slight impact from the U.S. government shutdown in 4Q. Can you just elaborate on how it's impacted so far? I mean, you mentioned that your U.S. government business is small, but one of the other lodging companies this morning, for example, noted that they're seeing the biggest impact around national parks. So I was just trying to think about the potential impact on a broader scale.

Yes. I think we can talk to sort of things that are more directly attributable to it and then things that are somewhat harder to, let's say, detect. Certainly, we've seen some modest cancellations, particularly in the D.C. Metro area, in cities like San Diego, where there is decent amount of government presence. It is a small piece of our mix. We have seen -- we have some lead time in some of these things where we can -- if it's -- since it's small to fill it with other business. We are seeing some small impact from government-related business in some of our franchised hotels. But overall, it's fairly small. The piece that's harder to, let's say, put your finger on, is in that period where the shutdown was going on and the uncertainty existed, did a broader set of customers just sort of wait and see? So did we have a 2-week period where plans were put on hold and will that have some kind of an impact? There could be some additional impact. But whatever the impact is, as you all know, it's transitory. It will be just in the fourth quarter and not something that we think sustains itself.

Your next question comes from Bill Crow from Raymond James & Associates. William A. Crow - Raymond James & Associates, Inc., Research Division: One clarification, one question. The clarification. Vasant, could you tell us the quarterly impact of deferring the securitization on your financials? And then second question, maybe for Frits. One of the better purchases over the last decade has been the Hyatt acquisition of AmeriSuites. Does that have you thinking at all about what maybe a La Quinta or similar brand could do for Starwood as a quicker entry into lower price point?

Yes, I'll answer the first one. The net impact of not doing the securitization this year, as I said in my comments, was approximately $100 million in cash. We have often, in the past, also done securitizations every other year. Doing larger securitizations has some benefits, some lower -- some savings in transaction costs, as well as you get a larger pool of buyers. So we'll look to do something next year.

So Bill, in answer to your second question, which in some respects, won't be a complete answer because as you could imagine, we wouldn't comment on a specific opportunity or company in either case. But having done the Le Méridien acquisition a number of years ago and seeing that brand grow and flourish in our portfolio in the years since, of course, we would love to look at new brands added to the system that we feel we could add value to. And having said that, as you can see and as we've said also for some time, the reality is, there aren't that many brands and there aren't many deals that actually we feel would make sense and create value for our shareholders. So we would look at any specific deal to see whether it makes sense along those lines. And I think that means both potentially at the high end, which plays strength to strength. I think we could add value to any high-end hotel brand as well or better than anybody else, and in the mid-market, to be able to gain scale and presence in select turf [ph] under the right circumstances.

Your next question comes from Harry Curtis from Nomura Securities.

A quick follow-up on China. If you were to describe the location of your hotels in China, kind of going -- Frits, going back to your East, South, North, West, where has the current portfolio been concentrated, and where is the pipeline concentrated?

Yes. So I'll give you some general comments on that and then again hand to Vasant if he wants to add. The way our business developed in China, and it's, as you know, developed quite rapidly over the last decade, is first, in what the Chinese call the Tier 1 cities of Beijing, Shanghai and Guangzhou. And those markets have been built out well and we have strong presence in those markets. We continue to add properties there, but the real growth are in what are called the Tier 2 and Tier 3 markets. And as you move into those markets, you tend to move to the West from those Tier 1 cities. And so the preponderance of our pipeline looking ahead will geographically shift more to the middle of the country and to cities, many of which you might not have heard of, but have 1 million or 2 million people. Vasant, do you want to add anything to that?

Yes. I mean, just to give you a little more precision, the East, North and South are roughly equal in size. They have roughly similar numbers of hotels. The West and Central part, which Frits talked about, is the smaller one right now, and it's where we think there is going to be growth. We think that is where the Chinese government is directing most of the development, and along with that, of course, come roads and airports and hotels.

Yes. What happens, too, is as growth in footprint and urbanization expands to these second-tiered cities, you start to see the mix of business to be more Chinese national than international. And the strength of our system and our SPG base within China puts us in a good position to be, yet again, the first mover into those markets, which we like, because in many respects, this next decade is an important one for the build out of Chinese cities, and to have hotels in great locations built in that time is, as we see it over a longer period of time, a unique opportunity.

Your next question comes from Felicia Hendrix from Barclays.

Frits, we've talked about this in the past. I just wanted to ask a question about Sheraton's performance. So the REVPAR there has been in the low single-digits for some time now. And in the U.S., it's underperforming its chain scale. So I'm just wondering, is this a function of the strong results you initially had after the revitalization and the investment and now, it's just even-ing out, or is there something else?

No, I think it's function also of, as always, a small number of hotels can influence the trajectory of a brand. We did see a good pop in Sheraton performance over the last few years. But I also think that, broadly speaking, the upper upscale segment in North America is a challenging place to be, and we're working to make sure that all 3 of our brands, Westin, Le Méridien and Sheraton, continue to find relevance in the market. And with the work that we've done with Sheraton revitalization and bringing consistency to the portfolio, and now working on things like Sheraton Club and expanding the F&B offerings into the Link@Sheraton, we still feel very good about where Sheraton is. But again, this is in a market where there's very low supply growth, where upper upscale hotels tend to be older now than the base of other hotels that have come into the market on all sides of that. So we continue to work hard to maintain the presence of Sheraton. And by and large, it's outperformed its peers over the last several years.

Your next question is from Robin Farley from UBS.

One question and one clarification. In terms of your REVPAR outlook for 2014, it's a bullish range, up 5% to 7%. I guess, how do you get comfortable with Q3 coming in just below or at the bottom end of your range? How do you feel comfortable with the visibility kind of further out when it seems challenging near-term? And then just on the asset sales, the 2 that will close by year-end. Can we expect them to be at that sort of -- I think you had said in Q2 that you've been doing trailing EBITDA of 15x or so, and that would maybe put proceeds of those sales at kind of close to $200 million. I'm just trying to get some color on that.

Yes. I think on the asset sales, we'll save that for a conversation when we can talk more specifically about that. In terms of the guidance for next year, obviously, it's early. We'll certainly give you more when we get into February. At this stage, as I mentioned in the comments, we are assuming that U.S. trends stay roughly -- North American trends stay roughly where they are. We are seeing generally decent strength in Asia x China, as we talked earlier. And as we get into next year, certainly, the hope is, and based on recent economic news coming out of Europe, that will begin to see some improvement and we get some where we begin to lap, once again, sort of the weaknesses in Latin America and in Africa, Middle East and China. So the assumption is that there will be some sequential improvement. But we'll get into a lot more detail in February, as we usually do.

Your next question comes from Ryan Meliker from MLV & Co. Ryan Meliker - MLV & Co LLC, Research Division: I just had one clarification and one question as well. With regards to the clarification, can you give us some color on the disparity between this quarter and last year's 3Q in the other management and franchise revenues? I know it was up $13 million when it hasn't been -- it's really been tracking in line year-over-year over the past few quarters. Wondering what that $13 million was comprised of, and if it's a run rate change or it's onetime in nature. And then with regards to questions, similar to what Felicia was just asking with regards to -- or I'm sorry, Robin with regards to 2014. Can you give us any color on how things are tracking from a corporate negotiated rate standpoint? I know it's early, but where your expectations are and how that compares to maybe this time last year.

Sure, on the other income line, again, I mentioned in my comments and it's also in the press release, that the other income line, as you know, sometimes has some noise in it. We did have, in the quarter, some termination fees, which caused the other income line to go up versus last year. Offsetting that, of course, in SG&A, we mentioned we had certain other items that were going in the other direction, also of a nonrecurring variety. The net benefit in the quarter between both sets of items are approximately $5 million. So hopefully, that answers your question. And then the second question was on...

Renegotiations.

Renegotiations. Again, in the comments we had, we said mid- to high-single-digits is what we are targeting. Again, occupancies being where they are, we think is helpful. And overall, corporate business remains strong. And as we've always said, it's linked to corporate profits. And since all the indications are that corporate profits are healthy, we are hopeful that rate will be in that mid- to high-single digits next year.

Yes, and I might just add to that and emphasize what Vasant said. The fact that we have a couple of quarters now of record occupancy means we can go into negotiations with a great deal of confidence, and we can continue to think about the best ways to mix our business so that the rates of different types of customers are optimized, given properties. And with very little new supply looking to come on in North America, with the possible exception of New York, that continues to be a dynamic that we think plays very well to the rate story for hotels in the U.S. and in Canada.

Your final question comes from the line of Ian Weissman from ISI Group.

One question and one follow-up. The question on rate declines in China. If you look at the Star data, I think occupancies, as you point out, continue to climb. I think they're up 200 basis points over the last 2 years, although rates are down about 10% to 15% over that time period. Maybe you can give us a little more color on how we should think about that rate trend. And is that all the ramp-up in supply which is pressuring rates? And then my follow-up question is just on your asset sale program, given some of the challenges that you point out in Europe as you highlighted, is it safe to assume that you're still concentrated on selling assets in the U.S. only at this point?

So in terms of rate versus occupancy in China, the picture is changing so quickly there year to year. I think it's hard to apply the conventional thinking, which is, hotels should have occupancy decline and then with a lag, you should see rates fall down after that. But with a picture that's shifting so much in terms of the mix of properties, you end up with a situation where the comparable set over time starts to change. From our own perspective, ideally, of course, we'd like to see both rate and occupancy going up. But with a footprint that's growing as quickly as ours, to have occupancy rise means that, fundamentally, primary demand and our ability to capture that primary demand is still pretty healthy. In terms of asset sales, the good news is, I suppose, that even though Europe, by and large, has not worked through to become whatever it will be post-euro crisis, but as we've been saying for a while, occupancy of the gateway cities, where we have a large number of our hotels, continues to be really strong. And interest in those properties, likewise, for the ones that we own, is correspondingly still high. So no, I wouldn't say that our interest in selling assets is solely in North America, but I also just want to be clear. I'm not saying that to indicate one way or the other that the asset sale that we have pending is either here or somewhere else.

Thanks, Frits and Vasant. I want to thank you all for joining us today for our third quarter earnings call. We appreciate your interest in Starwood Hotels & Resorts. If you have any other questions, feel free to reach out to us. Take care.

Ladies and gentlemen, this concludes today's Starwood Hotels & Resorts Third Quarter 2013 Earnings Conference Call. You may now disconnect.